A lesson for the Democratic left from Adam Smith

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The Green New Deal has gotten deserved blowback because it implies at least partial federal ownership and control of energy, agriculture and community banking, among other industries. (Saul Loeb/AFP/Getty Images)

By Roger Lowenstein

February 15

Lots of ink has been spilled on whether “Democratic Socialists” are truly “Socialists.” No sense getting all worked up on semantics, but there is an urgent question to be asked of the Democratic left: Do they believe in the Invisible Hand?

Some of the recent progressive proposals are downright extreme, and I don’t mean those that would radically raise taxes. Taxes have always gone up and down, and American business has thrived at all sorts of marginal rates.

High taxes in particular don’t violate the premise of democratic capitalism: Let the market economy produce the eggs, let the government redistribute.

But some of the recent proposals do violate that premise — which, by the way, has been the key to American prosperity for a very long time.

The Green New Deal has gotten deserved blowback because it implies at least partial federal ownership and control of energy, agriculture and community banking, among other industries. Abraham Lincoln said governments should do what private citizens can’t. The private sector is lousy at redistribution, but the government is bad at allocating capital.

Another example is Elizabeth Warren’s bill to require that at corporations with at least $1 billion in revenue, 40 percent of board seats be controlled by employees. This inserts the government (or a pet proxy, employees) in control of private assets. It rips to shreds the notion of incentives, because capital is invested — progressives, shield your tender ears — to make a profit.

Both the Green New Deal and Warren’s misnamed Accountable Capitalism Act violate the maxim that the best way to help those in need, and to provide social goods such as health care and education, is to redistribute after the market works its wonders. And capitalism is a wonder; it has fostered more growth, and raised more people out of poverty, than any other system.

Another example, which has gotten less attention than it deserves, illustrates the outright folly of intervening before the golden goose can lay its eggs. This is a plan by Sens. Charles E. Schumer (D-N.Y.) and Bernie Sanders (I-Vt.) to restrict corporate share repurchases.

The idea may sound forbiddingly technical, and it’s rather absurd that a humdrum capital function like share buybacks has a become a progressive fetish. (It’s also absurd that Schumer, the longtime protector of the carried interest exclusion, which has kept the tax rate for private equity and hedge fund managers lower than for everyone else, is partnering with a self-proclaimed socialist. Presumably, it has not escaped Schumer’s attention that a certain voguishly left congresswoman in his state might someday challenge for his seat. But I digress).

Schumer and Sanders were vague on the details, but their thrust is clear. They promise a bill to forbid corporations from repurchasing stock unless they “invest in workers and communities,” including $15-an-hour wages, at least seven days of paid sick leave, “decent” pensions and “more reliable” health benefits.

According to the alliterative duo, money that wasn’t spent on repurchasing shares “to further enrich the wealthy few” could otherwise be deployed into higher wages or be reinvested in the business. These are apparently approved purposes, whereas share buybacks, according to Schumer and Sanders, “don’t benefit the vast majority of Americans.”

Cue high school microeconomics. America has millions of private businesses, from the corner grocer up to Amazon. Every one of them is busy doing lots of things every day, from hiring and firing and making wage decisions to restocking inventory to painting the hallways to ordering equipment (reinvestment) to settling lawsuits to making financial decisions such as raising — or retiring — capital. Virtually none of their many millions of decisions is taken to “benefit the vast majority of Americans.”

Adam Smith, who expostulated the theory of the Invisible Hand in “The Wealth of Nations” in 1776, believed that most business was narrowly focused on reducing costs and improving quality. He wrote of the individual capitalist: “He generally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it.” And yet, as Smith recognized, there was magic afoot, or as he wrote further of the producer, “he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. . . . By pursuing his own interest he frequently promotes that of the society.”

To require employers to deliberately promote the social good inverts Adam Smith. It’s in the pursuit of self-interested profit, subject to the pressure of competition, that employers improve quality and lower costs. Yet success leads them to expand, which adds employment, and to invest in capital, which raises wages.

Smith recognized that the market isn’t perfect (note his use of the qualifier “frequently”). It is one of the reasons we need a progressive tax system, and why business needs be to regulated.

And I’m not, at all, disputing that regulation should be — needs to be — vigorous and broad. But there is a difference between, say, regulating the safety of a company’s products, or the integrity of its marketing, or the accuracy and fullness of its financial disclosures — and telling it when or where to invest.

Capital investment is actually the most intimate decision a company can make. No one can judge a business’s potential to absorb incremental capital from afar, or by diktat. Even its managers often screw it up.

Over-investment, driven by corner-office delusions, has over the years wiped out countless billions of treasure. On the other hand, bleeding a company of capital can be destructive.

The business press is really a daily log of how capital was deployed, for better or ill, and most of the stories about failed or failing companies are at heart tales of capital misapplied. General Electric is a shining example. Reinvestment is not only the most intimate business decision, it’s the one with the biggest potential for economic gain (or harm), and therefore social gain or harm. Doing it well requires judgment; it can’t be legislated. To paraphrase Winston Churchill’s wry paean to democracy, as bad as are corporate capital allocators, anyone else, including government or social activists, would be worse.

I get that CEOs have misused stock buybacks to try to juice the stock and therefore their options. Refer to some past columns or “Origins of the Crash” for this writer’s take on executive pay. (Hint: not a fan.) The way to deal with excessive pay, which is rampant, is to boost marginal tax rates and give shareholders a nudge with mandatory say-on-pay votes, not to screw up capital allocation for everyone.

And by the way, share repurchases don’t “enrich the wealthy few,” or anyone. The company buys at the market price. If its shares are indeed undervalued, then, the investment will be profitable and strengthen the company over time. Often, however, purchases turn out to have been ill-judged. That’s called risk.

Also, the money returned to shareholders doesn’t disappear. The recipients can spend it, contributing to the gross domestic product, or they can save it, in which case the capital the corporation chose not to reinvest is redeployed by someone else. At least in theory, the assets pass to a higher use. Senators, leave it alone.